Mandelson wades into row over who should spearhead reform of the City

Lord Mandelson has waded into the row between ministers and the Bank of England over who should spearhead reform of the City.

In a blow to Governor Mervyn King, the Business Secretary said he opposes granting sweeping new powers to the Bank of England.

His words will deepen a chasm between the Government and Mr King that has emerged in recent days.

Mr King has said he needs a tighter grip on the financial markets, while Chancellor Alistair Darling prefers to beef up the existing City watchdog, the Financial Services Authority.

Lord Mandelson, left, said he opposes granting new powers to the Bank of England. However Mervyn King has said he needs to get a tigher grip on the financial markets

Lord Mandelson said: ‘We need to keep conduct of business expertise in one place, in a regulator capable of seeing all parts of the picture at once.

‘While I think there is an argument for the Bank taking a more direct role in financial stability issues, I don’t support a twin peaks system. I believe the lesson of the last year is that we need a stronger regulator, not a weaker one.’

In a 'twin peaks' system, regulation would be split between the Bank and the FSA - something being considered by the Conservatives.

But the Governor has argued he should not be held accountable for future financial market meltdowns if he is not given tools to probe the banking system.

The war of words took an added political twist yesterday when Government insiders suggested the Bank had formed an ‘unholy alliance’ with the Tories.

Shadow Chancellor George Osborne was forced to deny that Mr King had leaked details of an earlier bank recapitalisation plan.

Ministers were angered last week when the Governor told a committee of MPs that he wanted to see tougher action to cut the ‘extraordinary’ levels of public borrowing.

The Government is expected to publish its delayed white paper containing proposals for bank regulation next week.

Mr King has already complained that he had not been consulted on the white paper. He has also taken a different point of view to Darling and the FSA over the best way to cracking down on very large banks that are ‘too big to fail’.

The Treasury's white paper is expected to focus heavily on upgrading the FSA, which has been criticised for its lackadaisical response to developments in the fast-moving financial sector.

In his speech, Mandelson launched a withering attack on bankers saying: ‘I have never felt such a sense of distrust and anger between the financial sector and the rest of the economy.’

He also warned that the beginnings of a pick-up in the banking sector could hamper the chance for reform.

‘Ironically, I think one of our biggest problems may be premature good economic news,’ he said. ‘It may become harder to maintain the urgency of reform, especially internationally, as banks restructure their balance sheets, and the bonuses go up again and the economy returns to growth.

'Everyone’s a reformed drinker at the height of the hangover. The real test of commitment is when the headache clears.’

The European Union is also considering new financial market rules. Mandelson said British banks need to build alliances with their European counterparts and other financial institutions.

'Brussels has to recognise that EU rules will affect the UK far more than any other European state,' he said. 'We have more skin in this game than the rest of Europe put together.

'We expect this to be recognised and while we will be working for stronger European rules, I want to make it clear that we will also be defending the UK's interests.

'All of us need to be pushing back against a knee jerk political response from the [European] Parliament or the [European] Commission.’